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February 11, 2013

Largest ETF Firms Still See Ample Room for Growth

Mutual funds have 50 more years of market penetration

ETFs, despite two decades of product history, remain an emerging investment category with a large growth trajectory. That is the rough consensus of five of the largest ETF asset managers speaking at IndexUniverse’s InsideETFs Conference in Hollywood, Fla.

“The opportunities are so much larger than the challenges,” said Mark Wiedman, global head of iShares BlackRock. Wiedman saw the greatest growth potential in the areas of fixed income and non-U.S. equities markets.

“Today only .3% of all fixed-income instruments in the U.S. sit inside of an ETF; 2.2% of equities sit inside of an ETF,” he said. “Buyers and sellers need a place to meet, and increasingly that’s going to be in fixed-income ETFs. ETFs are changing the very way fixed-income markets operate.”

In the non-U.S. equities market, Wiedman noted, even developed markets like Europe and Asia often rely heavily on U.S. ETFs, something he expects to gradually change.

To Michael Sapir (left), CEO of ProShares, 20 years is “relatively new” in comparison to mutual funds, which have been around now for more than 70 years.

And State Street Global Advisors’ global head of ETFs, Jim Ross, also emphasized the potential level of continuing growth for ETFs, noting that “only 17% of Schwab clients” use them, indicating a vast market of consumers who can be convinced of the category’s many advantages.

However, Schwab, which holds the most client ETF assets and sells core ETFs, may be an outlier in the level of ETF penetration of its customers. According to Sapir, “only 3% of households today own ETFs; less than 50% of FAs use ETFs on a regular basis.”

Another trend that bespeaks future growth in ETFs is the relatively recent adoption of the category by the institutional market, according to iShares BlackRock’s Wiedman.

“It’s only really in the last year, year and a half that we’re starting to see half-a-billion-dollar trades from a single client—that’s totally new,” he says.

The Vanguard Group’s senior investment strategist Joel Dickson warned of one trend he thought held danger for investors: the use of new and unproven benchmark indexes.

“Most ETFs are being started with indexes that are less than six months old,” he said, warning that they outperform through backtesting but then underperform after adoption.

To Invesco PowerShares head of global ETFs Ben Fulton, ETFs’ superior rate of growth in comparison with mutual funds was not in doubt.

“The only question is whether ETFs are going to capture the active market,” he said.

Fulton had doubts about that. “The reason ETFs have been so successful has been due largely to the passive strategy; I think there’s going to be moderate success” in the active space.

State Street’s Ross disagreed, citing research suggesting that ETFs will be an enormous factor in actively managed funds 20 years from now.

Ross added that all the big ETF providers continued to see the defined contribution marketplace as holding enormous opportunity for them in the years to come.